Two years ago, I took a payday loan to put the industry in context. There was no personal need, but it was worth a few dollars out of my pocket to see how the process works, how the service is, and how the retail experience was. Call me a payment geek, but there is no better way to see this than first hand.
The payment terms were unusual to a “credit card person”. I spent $7, which I didn’t even expense, in interest towards a $50 loan for two weeks. Frankly, I never experienced what a 365% APR would feel like and for less than a #12 value meal at McDonalds I was in for the experience.
Armed with my paystub and drivers license, I entered a local lender. The operation was as clean as any retail bank, though it lacked the dark-wood desks. Teller windows had what looked like 2” plexiglass separating them from the public, but the back-office looked like anything you’d expect at a local bank branch.
Other services, such as pre-paid cards, tax preparation, and money orders were offered, but absolutely no deposits. This is a private business, not an insured bank.
There is a shift going on in the payday lending business, in response to the rates mentioned above. Some banks are now standing in and while the market will likely improve, rates are still ugly because of the risks.
New information, from The Pew Charitable Trusts, presents a 49-page missive on the subject entitled “State Laws Put Installment Loan Borrowers at Risk.”
- Approximately 10 million Americans use installment loans annually, spending more than $10 billion on fees and interest to borrow amounts ranging from $100 to more than $10,000.
- The loans are issued at roughly 14,000 stores in 44 states by consumer finance companies, which differ from lenders that issue payday and auto title loans, and have much lower prices than those products.
- Loans are repaid in four to 60 monthly installments that are usually affordable for borrowers.
- The Pew Charitable Trusts analyzed 296 loan contracts from 14 of the largest installment lenders, examined state regulatory data and publicly available disclosures and filings from lenders, and reviewed the existing research. In addition, Pew conducted four focus groups with borrowers to better understand their experiences in the installment loan marketplace.
Some findings from the research:
- Monthly payments are usually affordable, with approximately 85 percent of loans having installments that consume 5 percent or less of borrowers’ monthly income.
- Prices are far lower than those for payday and auto title loans. For example, borrowing $500 for several months from a consumer finance company typically is three to four times less expensive than using credit from payday, auto title, or similar lenders.
- Installment lending can enable both lenders and borrowers to benefit.
- State laws allow two harmful practices in the installment lending market: the sale of ancillary products, particularly credit insurance but also some club memberships (see Key Terms below), and the charging of origination or acquisition fees.
- The “all-in” APR—the annual percentage rate a borrower actually pays after all costs are calculated—is often higher than the stated APR that appears in the loan contract.
- Credit insurance increases the cost of borrowing by more than a third while providing minimal consumer benefit.
- Frequent refinancing is widespread.
The report is worth a read or at least a scan.
…Maybe a good document to read on your way to Money2020 next week. You will be glad to live in the world of payments!
Overview by Brian Riley, Director, Credit Advisory Service at Mercator Advisory Group
